Macroeconomic Principles ECON Midterm Examination #2 March 17 th, Name:

Transcription

1 Page 1 of 7 Macroeconomic Principles ECON Midterm Examination #2 March 17 th, 2016 Name: You have 75 minutes to finish the examination. There are 5 questions. Please fully explain all questions that need explaining. You should be able to answer the questions in the space provided. Scratch paper is provided at the end of the exam. Good luck! Question 1: /15_ Question 2: /12_ Question 3: /12_ Question 4: /12_ Question 5: / 9_ Total: /60_

2 Page 2 of 7 1. The short-run economy can be described by the following table. Notice that the level of taxes increase when output is greater than 8000 (taxes are low when Y=8000, but increase when Y=8001). Y T C I G NX AE Change in Inventory A.) You are told that the marginal propensity to consume (MPC) is 0.9 and that autonomous consumption is equal to 500. Write down the consumption function below and fill in the Consumption column above, given this information. (3 points) B.) Fill in the aggregate expenditure column and graphically depict this economy using the short run model. Denote the equilibrium level of Y. What is the value of aggregate expenditures when output is zero (assume that taxes are still 500 when Y=0)? What is the slope of the aggregate expenditure line? (3 points)

3 Page 3 of 7 C.) Use the information in the table to fill in the change in inventory column. Show on the graph above when inventories are increasing and when they are decreasing. Why is this the case? (3 points) D.) The government decides that they want to increase spending by 300 ( G=300). How much does GDP increase and what is the new level of equilibrium? (3 points) E.) The government realizes that they made an error in part (D). The size of the GDP change was correct, but they wanted to reduce taxes, not increase government spending. If the government wants to increase the GDP by the same amount it was increased in part (D), how much should they decrease T by? (3 points)

4 2. The economy is currently in a short-run equilibrium at Y=1000. The full-employment level of equilibrium is Ybar=2000. The marginal propensity to consume is 0.75 (mpc=0.75). Page 4 of 7 A.) If the government wants to increase G in order to reach full-employment output, how much do they need to increase G by? (3 Points) B.) The government wants to increase GDP from 1000 to 2000, but does not want to increase the deficit. If the change in G must equal the change in T, how much does the government need to increase G and T in order for the new equilibrium to be at Ybar=2000? (3 Points) C.) At the coolest party in town this weekend, imagine you will be talking to your friends about what the government should do in order to bring the economy back to full employment. You explain to them that the government can either increase spending by a certain amount or decrease taxes by a different amount. Someone stops you and asks, Why are your answers different? It s just the government spending our money in one scenario and giving us our money back in another? (3 Points) D.) Provide one reason why decreasing taxes is an effective policy to stimulate the economy. Provide one reason why decreasing taxes is not an effective policy to stimulate the economy. Provide reasons why government spending is and is not an effective policy. (3 Points)

5 Page 5 of 7 3. A strong assumption made in the short-run model is that the marginal propensity to consume is the same at all levels of income. A.) Relax this assumption by drawing an AE-line that shows that marginal propensity to consume is very high when income is low, but decreases as income increases. AC, I, G and NX are constant. Show where equilibrium is in your graph and assume the equilibrium is a full-employment equilibrium. (3 Points) B.) Explain why the marginal propensity to consume is high when income is low, but low when income is high. (3 Points) C.) At what general level of GDP is counter-cyclical fiscal policy more effective? Explain why this is the case. (3 Points) D.) When enacting counter-cyclical fiscal policy, we have used the expenditure multiplier and tax multiplier to calculate the change in GDP resulting from changes in G or T, respectively. Describe a situation that would cause the change in GDP to be smaller than expected using our multiplier equation. Describe a situation that would cause the change in GDP to be larger than expected. (3 Points)

6 Page 6 of 7 4. After you graduate from Xavier with a degree in Economics, you fulfill your lifelong dream and spend your days balancing the budget of your hometown of Bacon, Delaware (this amazing city actually exists). Your first job is to assess whether the government has been fiscally responsible over the last five years. You are given the following information for Bacon. Debt 5 Years Ago: $1,200 Nominal GDP 5 Years Ago: $5,000 Debt Today: $3,000 Nominal GDP Today: $8,000 Price Level 5 Years Ago: 120 Price Level Today: 140 A.) Has the government been fiscally responsible over the last five years? Explain why or why not. (3 Points) B.) The government has to pay year interest on the debt. The interest rate is 5%. What is the size of the interest payment 5 years ago? What is the size of the interest payment today? What must the tax rate be in order for tax revenue to cover the interest payments 5 years ago and today? (3 Points) C.) Taking into account the debt situation and real GDP, would you argue that the government of Bacon has effectively increased their debt? Why or why not. (3 Points) D.) In class, we saw a quickly increasing debt clock. Explain why looking at just total debt can be misleading. (3 Points)

7 Page 7 of 7 5. A.) Assume that the Bank of the US has a balance sheet with $10,000 in deposits. The bank wants to hold 5% of the deposits in cash, and 5% of the deposits in their Federal Reserve Account. Fill in the bank balance sheet below with these attributes. (3 Points) Bank of the US Balance Sheet (RRR=0.1) Assets: what they have/what is owed to them Liabilities: what they owe Loans= Deposits= Total reserves= Cash in Vault= Acct. with FED= B.) A new deposit is made into the bank of $1,000. What is the overall increase in money supply as a result of this deposit? What is the size of the money multiplier? (3 Points) C.) Fill in the new bank balance sheet after the initial $1,000 deposit. (3 Points) Bank of the US Balance Sheet (RRR=0.1) Assets: what they have/what is owed to them Liabilities: what they owe Loans= Deposits= Total reserves= Cash in Vault= Acct. with FED=